DiCaprio's move to sell oil stocks may affect Canada: Don Pittis

The announcement that Leonardo DiCaprio is throwing his star power behind fossil fuel divestment caused a debate at the CBC business unit this week. 

The movie star, who recently played a cutthroat market manipulator in Wolf of Wall Street, has a different attitude in handling his own investments. He's a well-known environmentalist who was an early adopter of Toyota's green Prius hybrid.

• United Church votes to sell off its fossil fuel assets
• Dalhousie University votes against divesting fossil fuel holdings
• Leonardo Di Caprio urges UN to solve climate crisis

This Wednesday past, the Leonardo DiCaprio Foundation put out a release saying the movie star and his foundation were joining a global campaign to sell their shares in fossil fuel companies. The foundation said thousands of individuals and hundreds of institutions worth a combined $2.6 trillion had committed to divesting. 

Lots of buyers

One of my colleagues suggested that the campaign DiCaprio has joined may be more bark than bite. Despite claims that funds committed to the scheme have grown from $50 billion to trillions in a single year, there are still plenty of buyers for those shares. In fact, my chum pointed out, every share that has been sold has been bought by someone else.

The discussion made me think that since we in Canada have so many fossil fuel companies, it would be worth offering a bit of analysis about what happens when people turn against oil and gas and coal shares for political reasons.

Of course, my colleague was right. In a large, healthy market, any time someone offers a share, there is someone else to buy it. This is what people who study markets call "liquidity" and it is what separates credible markets from all the others.

Essentially it means that at any moment if you want to turn your investments into cash, you can.

During times of extreme general panic, even healthy markets can go through brief periods where there are no buyers, but that is extremely rare.

The secret of market liquidity is that there is always a buyer at the right price. If you wanted to sell your house for $2 million, you might not get any offers (except in Vancouver, of course). But if you offered it for $1, you could sell instantly. The process of finding the current fair price through the process of bid and ask is why markets are so useful.

So if Di Caprio and friends all decide to sell their shares, there will be buyers, but it will tend to push share prices lower than they would otherwise have been. In theory, the more widely the campaign catches on, the more share prices should be pushed down.

Lower share prices are bad for companies in several ways. One of those ways is that when a company is worth less, it is able to borrow less from banks and the bond markets. 

The other potential impact is that if a trend toward divestment makes shares prices fall, then others — who don't give two hoots about the environment — may join the rush to the exit, pushing shares even lower.

The wages of sin

However, for years economists have theorized that there is a counter-balancing effect. It suggests that divestment from oil and gas stocks actually makes them more, not less, profitable.

• Arctic Drilling: When markets conquer ethics

The theory goes like this. If the share price has a relatively weak effect on profitability, then falling share prices will mean there is more profit per dollar invested. This has long been the argument for why so-called "sin stocks" like those of gambling, armaments, tobacco and alcohol companies, that moral people might prefer not to own, are more profitable.

However, according to a report earlier this month in the Financial Times, that analysis has been discredited.

Research by academics at Britain's Henley School of Business seems to show that previous studies claiming a sin-stock advantage did not take all the data into account. 

According to the study, "the alcohol, tobacco and sin portfolios do not exhibit any significant outperformance, and the gambling portfolio underperforms."

Presumably the same thing might apply to oil and gas stocks if they increasingly get added to the sin stock list.

In the current depressed market for energy stocks, it's hard to isolate any effect of the divestment campaign. In the short term, while groups are divesting, it may have the effect of pushing those shares even lower. And if the Henley researchers are right, if the campaign grows, it will have a bigger effect.

However, it could have a beneficial effect in the long term. Like short-selling, the divestment campaign could perform the role of canary in the coal mine (so to speak), directing Canadian investment away from a weakening fossil fuel industry and pointing it instead toward alternatives that will be profitable in the longer run.